Fabulous Ex-Invalid

LIKE OTHER successful health insurers,
Aetna
has been increasing its earnings by shrinking its business, shedding less profitable customers while jacking up premiums on those that remain. It's a powerful, if perhaps unseemly, mode of running a health-care company. Yet while the customer-culling will probably abate in coming months, Aetna should continue to enjoy briskly rising earnings through 2003.

The insurer last week hurdled Wall Street's profit expectations for the fourth quarter and predicted that its 2003 earnings would jump to $3.30 to $3.40 a share, well above the former consensus estimate of $3.08 and the $2.26 in operating earnings just reported for 2002.

The expanding bottom line is a result of reducing health-plan membership to 13.7 million as of Dec. 31, from 17.1 million a year earlier. Membership rolls are expected to stabilize, then rise as the year progresses.

But Aetna management, led by Chief Executive John Rowe, vows it won't pursue its costly onetime strategy of seeking new business at unprofitable terms. The company also is cutting its own head count sharply, and with premium increases for 2003 targeted at 15%, compared with an expected 12% to 13% rise in the medical costs it must cover, profit margins should continue to widen.

One way or another, Aetna has been shrinking for some time. Barron's last took a close look at the company almost three years ago ("Temperature Rising," March 27, 2000), when the company had just rejected a takeover bid by
WellPoint Health Networks
and
ING.
Then-CEO (and current SEC Chairman nominee) William Donaldson promised to deliver shareholder value via restructuring, which so far has played out nicely. Shareholders since have seen their investment appreciate by about 35%.

At a recent share price around 41, Aetna is valued at a bit more than 12 times expected 2003 earnings, a reasonable multiple. Wall Street analysts remain largely unconvinced of the Aetna story -- often a positive sign according to contrarian logic, though bullish exceptions such as Eric Veiel of Deutsche Bank Securities think Aetna shares could hit 50 within a year.

Still, much of the easy money in the stock was probably made last year, when it gained 25%, and Aetna no longer is valued at much of a discount to industry favorites
UnitedHealth
and WellPoint. The company has shown it can shrink itself to strong earnings growth, but this year Aetna needs to prove it can win business profitably to continue impressing investors.

--Michael Santoli

Lethal Playthings

CCA: The next asbestos?

Now even Uncle Sam is saying it: There's poison in the playgrounds. Last summer, Barron's reported on the mounting litigation over health problems allegedly caused by a common wood preservative called chromated copper arsenate, or CCA. ("Under Pressure," June 17, 2002.) As we noted, the Environmental Protection Agency last year brokered a deal in which CCA producers agreed to voluntarily stop selling the stuff for most applications by the end of 2003. But as the industry often pointed out, neither the EPA nor any other federal agency had officially warned against exposure to CCA-treated wood.

That's changed: The Consumer Product Safety Commission this month warned children face increased cancer risk from using play structures built of CCA-treated wood. At a hearing next month, the CPSC will consider banning the use of CCA in playground equipment.

The CPSC hearing -- and a pending EPA risk assessment -- is likely to heighten the litigation risk for retailers such as
Home Depot
and
Loews,
who sell CCA-treated products; wood treaters such as
Georgia Pacific
and
Universal Forest Products
; and CCA makers, including
Arch Chemicals,
Osmose and the chemical specialties division of Rockwood Holdings. According to Securities and Exchange Commission filings, for instance, Arch is the target of at least five suits that may become class actions, as well as personal-injury litigation.

In a clear sign of trouble, the American Wood Preservers Institute, the lead industry trade group and a frequent litigation target, recently axed its five employees and handed operations to an association-management firm. More serious fallout could follow.

This copy is for your personal, non-commercial use only. Distribution and use of this material are governed by our Subscriber Agreement and by copyright law. For non-personal use or to order multiple copies, please contact Dow Jones Reprints at 1-800-843-0008 or visit www.djreprints.com.